Heavy selling shakes treasury markets and inverts yield curve

US dollar banknotes are shown in front of the stock chart displayed in this illustration taken on February 8, 2021. REUTERS/Dado Ruvic/Illustration/File Photo

June 13 (Reuters) – US two-year Treasury yields rose above 10-year borrowing costs on Monday – the so-called inversion of the curve that often portends a recession – on expectations that interest rates could rise faster and more than expected.

Concerns that the US Federal Reserve may choose to raise interest rates more than expected this week to contain inflation has sent two-year bond yields to their highest since 2007.

But there is a view that sharp increases in interest rates could push the economy into recession.

Tradeweb prices showed that the gap between the two- to 10-year Treasury yields decreased to as much as 2 basis points before rising to about five basis points.

The curve had reversed two months ago for the first time since 2019 before becoming normal.

Many analysts view the inversion of this part of the yield curve as a reliable indication that a recession may come in the next year or two.

The move follows Friday’s reversals in the three-year/10-year and five-year/30-year portions of the Treasury curve, after data showed US inflation continued to accelerate in May.

Two-year Treasury yields rose to a 15-year high of about 3.25% before falling back to 3.19%, while 10-year yields touched the same level, the highest since 2018.

Friday’s data showed the largest annual increase in US inflation in nearly 40-1/2 years, dashing hopes that the Federal Reserve could halt its September rate hike campaign. Many believe that the central bank may in fact need to accelerate the pace of tightening.

Barclays analysts said they now expect a 75 basis point move from the Fed on Wednesday instead of the 50 basis point it was charged.

Money markets are now pricing in cumulative gains of 175 basis points by September, and also see a 20% chance of a 75 basis point move this week, which if implemented would be the largest single-meeting increase since 1994.

Rohan Khanna, a strategist at UBS, said the ECB’s hawkish communications combined with inflation data “totally smashed the idea that the Fed might not offer 75 basis points or that other central banks would move at a gradual pace”.

“The whole idea has gone out of whack… that’s when you get a turbo flattening of yield curves. It’s just a realization that peak inflation in the US is not behind us, and unless we’re told it might be a peak of hawkishness from the Fed, too,” Khanna added. Not behind us.”

Meanwhile, bets on the final interest rate in the US – where the Fed funds rate may peak this cycle – are shifting. On Monday, they priced prices close to 4% in the middle of 2023, an increase of about one percentage point since the end of May.

Deutsche Bank said it has now seen interest rates rise at 4.125% in the middle of 2023.

Some Fed watchers doubt that the Fed will move faster with an interest rate hike. Thomas Koesterge, chief economist at Pictet Wealth Management, for example, notes that most of the drivers of inflation such as food and fuel remain outside the control of central banks.

“Over the summer, they’ll be aware of the growth and housing data that’s starting to look more choppy,” Kosterge said. “I doubt they’ll do 75 bps… 50 bps is really a big step for them.”

A massive sell-off in Treasuries has put other markets on edge, sending German 10-year bond yields up to their highest level since 2014, sending S&P 500 futures down 2.5%.

(Covering) Yoruk Bahceli and Sujata Rao Editing by Dara Ranasinghe and Mark Potter

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